What is Upper Circuit and Lower Circuit in Share Market?

What is Upper Circuit and Lower Circuit in Share Market?

An upper circuit refers to the maximum increase in a stock's price in a single trading session, temporarily suspending trading to prevent inflated prices and market bubbles, while a lower circuit refers to the maximum decrease in a stock's price, preventing market crashes. The upper and lower circuits play an important role in regulating stock market instability. 

These circuits depict the maximum percentage of increase or decrease that is allowed in the price of a specific stock or index during a single trading session. These price bands are settled daily allowing the market authorities to check the fluctuations. To navigate the complexities of stock market dynamics, understanding these circuits is important. In this blog, let’s understand in depth what lower and upper circuit means. 

Understanding Upper Circuit

Upper circuit and lower circuit are terms commonly used in the share market to describe price limits set by stock exchanges to regulate trading activity. The upper circuit is the maximum permissible limit or cap on the price at which a stock can be traded during a particular trading session. When a stock reaches its upper circuit limit, trading in that stock is temporarily halted and no further trades can take place above that limit. The activation of an upper circuit typically occurs when there is a surge in demand for a particular stock, resulting in a rapid increase in its price. For traders and investors, an upper circuit presents both opportunities and challenges.

On one hand, if an investor already holds shares of a stock that hits the upper circuit, they may benefit from the price appreciation. However, if someone is looking to buy the stock, they may have to wait until the circuit limit is revised or lifted to execute their trade. An upper circuit also generates an atmosphere of excitement and anticipation among market participants.

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Table of Content

  1. Understanding Upper Circuit
  2. Understanding Lower Circuit 
  3. Difference Between Upper Circuit and Lower Circuit
  4. Five Essential Facts of Upper and Lower Circuit
  5. Upper and Lower Circuits for Stocks 
  6. Upper and Lower Circuits for Indices
  7. How to Use Circuits or Price Bands on Stocks to Your Advantage?

Understanding Lower Circuit 

Lower circuit is a term used in the share market to define the lower price limit set by stock exchanges to regulate trading activity. It is the minimum permissible level or floor at which a stock can be traded during a specific trading session. When a stock reaches its lower circuit limit, trading in that stock is temporarily suspended, and no further trades can take place below that limit. 

Lower circuits are triggered by various factors, such as negative news, poor financial performance, or market-wide sell-offs, and serve as a circuit-breaker mechanism to prevent excessive volatility and panic selling. By implementing lower circuit limits, stock exchanges aim to maintain stability and protect investors from significant losses.

Difference Between Upper Circuit and Lower Circuit

Let's explore the fascinating difference between upper and lower circuits and how they affect market participants.

Upper Circuit

Lower Circuit

Acts as a glass ceiling preventing a stock's price from rising further during a specific trading session

Represents a threshold preventing a stock's price from falling below a certain level during a trading session

Triggers a temporary halt in trading due to overwhelming demand for the stock, creating anticipation and excitement

Halts trading due to excessive selling pressure, leading to market uncertainty and concern

Occurs when there's an immense demand for a particular stock, causing its price to surge rapidly

Triggered by significant selling pressure causing a rapid decline in a stock's price

Existing shareholders witness their investments soar to new heights within a single session

Existing shareholders may face distress as the value of their investments erodes swiftly

Traders who missed the opportunity to buy the stock earlier may feel frustrated, eagerly awaiting the next trading session

Traders who took short positions or bet against the stock may capitalise on the downward trend, revelling in their prescient moves

In both scenarios, the upper and lower circuits create a sense of anticipation and alter the trading dynamics. They can elicit a wide range of emotions, from euphoria to anxiety, among market participants. Traders closely monitor stocks nearing these circuit limits, as breaching them signifies a shift in market sentiment and a potential opportunity for profits or losses. Whether the upper circuit is good or bad is subjective and depends on the investor and the market position.

Five Essential Facts of Upper and Lower Circuit

Here are five important facts regarding the upper and lower circuits: 

  1. Circuit filters are based on the previous day's closing price: The upper and lower circuit levels are calculated using the stock's last day's closing price. These circuit filters help regulate the price movement of stocks.
  2. Circuit filter information is available on the stock exchange's website: The specific upper and lower circuit limits for each stock can be found on the website of the respective stock exchange. Traders and investors can access this information to stay informed about circuit levels.
  3. Stocks typically have a 20% circuit limit: Initially, stocks are assigned a 20% circuit limit, which means that the stock price can fluctuate within a range of 20% from the previous day's closing price. This percentage may vary for different stocks.
  4. The upper circuit indicates maximum price increase; the lower circuit indicates maximum price decrease: When a stock hits its upper circuit, it implies that its price has reached the maximum limit allowed for the day, resulting in a temporary halt in trading. Conversely, hitting the lower circuit means the stock's price has dropped to the maximum limit allowed for the day.
  5. Intraday trades are converted to delivery when circuit limits are hit: When a stock hits either the upper or lower circuit, intraday trades in that stock are automatically converted to delivery trades. This conversion is necessary as trading in the particular stock is halted for the remainder of the trading day, allowing only delivery-based transactions.

Upper and Lower Circuits for Stocks 

Every day, stock exchanges establish a price band based on the stock's last traded price. The goal is to safeguard investors against significant single-day price changes (hike and decline). Upper and lower circuits (as stated in the preceding paragraph) in stock markets are done solely to safeguard them from the stock market's extreme volatility.

Upper and Lower Circuits for Indices

Circuits aren't always used for individual stocks; they may also be used for an index. As a result, when an index drops drastically, the circuit breaker system raises a red light. India has derivative markets. This is the halt index.

When this happens, trade in equities and futures markets is paused, which can take a few minutes to the rest of the trading day. It is determined by the proportion of the index's decline.

How to Use Circuits or Price Bands on Stocks to Your Advantage?

The NSE and BSE determine the price bands for all securities. Most investors, particularly individual investors, prefer to invest in mid and small-size equities. In either case, such equities are subject to dramatic volatility. Circuit filters assist these tiny investors by protecting them from large losses. If you've already invested in a company, it's best to sell when you detect the circuit level rising. Mild volatility is often associated with limited earning potential.

Conclusion
In the stock market, upper and lower circuits are used to identify the maximum allowed price limits within which a stock or asset can fluctuate during a trading session. The upper circuit indicates the highest price limit above which a stock cannot rise, while the lower circuit represents the lowest price limit below which a stock cannot fall. These circuit limitations are imposed by stock exchanges to facilitate orderly trading and to prevent excessive volatility. You can download an innovative online trading app which provides you with important insights and efficient execution capabilities, for comprehensive trading solutions and real-time market data. 

Upper Circuit and Lower Circuit FAQs

Upper Circuit and Lower Circuit are price limits set by stock exchanges to regulate the volatility of a stock's price movement during a trading session.

Upper and lower circuits are implemented to control extreme price fluctuations, maintain market stability, and prevent manipulative activities.

When a stock hits the upper circuit, trading in that stock is temporarily halted, and market participants can only place buy orders. Similarly, trading is halted temporarily when a stock hits the lower circuit, and participants can only place sell orders.

When a stock hits the upper or lower circuit, trading is suspended for a specific period, and it resumes with revised circuit limits based on predefined rules set by the exchange.

An upper or lower circuit is triggered when a significant price movement, usually a sharp rise or fall, occurs in a stock or market index within a specific timeframe.

Purchasing an upper circuit share is dangerous since it has already risen dramatically, perhaps signalling overvaluation. Before investing, consider the underlying fundamentals and probable future fluctuations.